Fed Continues To Whittle At Interest Rates

November 18, 1998|By Merrill Goozner, Washington Bureau.

WASHINGTON — The Federal Reserve Board cut interest rates for the third time in two months Tuesday in its ongoing campaign to keep the slowing U.S. economy from slipping into recession next year and to help stabilize global financial markets.

The reduction in the federal funds rate by another quarter point, to 4.75 percent, will give a short-term boost to consumer and business borrowers. It means consumers with home equity loans or credit card balances could see their bills decline slightly. And corporations that have been having a hard time recently finding financing could regain access to credit markets.

The decision by the 11-member Federal Open Market Committee to cut rates again shows that the nation's monetary authorities remain afraid that recessions in Japan and much of the developing world--and the unsettled condition of U.S. credit markets--still have the potential to derail U.S. economic growth next year.

But the Fed also sent a mixed message about the outlook for future interest rate cuts, which if not forthcoming will disappoint many analysts who've been projecting rates falling to 4 percent by the middle of next year.

"The Fed will pause for several months to assess what it has done and what other global policymakers have done," said Paul Kasriel, chief economist at Northern Trust Bank.

The Dow Jones industrial average, which was down about 55 points when the news flashed across traders' wires and TV sets, initially soared. But traders already had optimistically factored in Tuesday's rate cut, and the Dow fluctuated throughout the rest of the day to finish down 24.97 points, closing at 8986.28.

At the same time the Fed cut its federal funds rate, which is the rate banks charge each other for overnight loans, it also cut the discount rate, which is the price the Fed sets on loans to banks who for liquidity purposes must borrow from their regional Federal Reserve banks.

A cut in the rarely used discount rate is usually interpreted by Fed watchers as a signal that the nation's monetary authorities are going to implement another rate cut in the near future.

When Fed Chairman Alan Greenspan took the extraordinary step of cutting both the federal funds rate and the discount rate between regularly scheduled FOMC meetings on Oct. 15, for instance, it was widely assumed that the Fed would cut rates again when it met Tuesday.

But the statement that accompanied the two rate cuts announced Tuesday left an air of uncertainty, suggesting to some analysts this might be the last reduction for a while. The Fed next meets Dec. 22.

"With the 75 basis point (three-quarters of a percentage point) decline in the federal funds rate since September, financial conditions can reasonably be expected to be consistent with fostering sustained economic expansion while keeping inflationary pressures subdued," the statement said.

The Fed's hesitancy about future rate cuts can be traced to the contradictory signals given off by the U.S. economy and the differing projections economists have for how the ongoing troubles in overseas markets will affect it.

Those arguing that more rate cuts are on the way say the U.S. economy will slow sharply in the first half of next year. The current level of consumer spending is bound to moderate as households realize the heady growth in stock portfolios in recent years is likely to be over and savings rates that had turned negative in recent months return to normal.

This school also points to the coming slowdown in capital spending as businesses react to declining profits. Although the 4 percent decline in third-quarter corporate profits was largely ignored by the stock market, that's less likely to happen in December and January as companies begin announcing downward revisions in their fourth-quarter profit picture.

And perhaps most significantly, the school that expects more rate cuts on the horizon points to the negative effects of trade on the economy. Over the next year, the Asian financial crisis will hit U.S. shores with gale winds. Adjusted for inflation, the trade deficit is projected by some economists to soar to $340 billion in 1999 as inexpensive clothes, toys, steel, cars and auto parts pour into the U.S. from countries desperate to export their way out of deep recessions caused by the collapse of their currencies and stock markets.

"As the jobs numbers, trade and corporate earnings come out over the next few weeks, I think the Fed will have room to move again in December," said James Glassman, a senior economist at Chase Securities Inc. "They won't want the U.S. to tank while the rest of the world is in trouble."